Commercial Modelling Explained
Daniel J. O'Connor
Consultant Principal @ The Inventors Academy | IP and Commercialisation Specialist
The critical role of commercial modeling in innovation emerged when innovation that did not fit the conventional market applications emerged. We looked for methods of valuing the innovation based on its capacity to deliver additional gross income to the business.
This generally meant that the value of innovation could radically differ across industries and markets, depending on its business application and ease of deployment. One of the other key features is the propensity for markets to readily adopt the new product, idea, method, or process in order to save or make money and/or save time or effort.
In our UN Task Force survey of 2015, I was involved in a validation test of “why investors chose to get involved with IP projects, and the top 6 reasons surprised us all. This was a modal average of just known clients (classified independent inventors or small R&D teams). We sought permission from inventors to approach their investors and asked them one simple (carefully worded) question: “What made you decide to jump into this project?”
The responses (the reasons these casual investors (very few could be classified as professional or even experienced investors) were generally known to the inventors and were mostly - in some way – involved in the industry and/or the market.
We have since published the “top six responses” because response number six was expected to be number one. Return-On-Investment.
The 5th reason was “having a clear exit,” so their involvement was not deemed permanent, and they could exit with a return at a known value-realization point.
The fourth reason was novelty. Most of these investment partners (they were more partners than investors) liked the novelty and could see its value in their industry.
The third reason was the management of risk. Given that the majority of these partners were already involved in the industry and/or the market, we found that they knew the risks involved, but when the inventors explained these risks to them carefully along with accompanying strategies, they could have some measure of comfort that the inventor had a good understanding of the program ahead.
This article is about the second reason why these commercial partners elected to put their money and (in many cases) time and other resources into the project, which was the commercial model. They could have confidence in the project if the inventor could clearly explain how, why, and where it would make money.
The most important reason why these investors chose to participate in commercializing the invention they did was because of the leverages presented. Leverages will be part of another article in the near future, but for now, they are primarily commercial advantages that can be offered to the investor as bonuses but which have little or no cost to the inventor.
What is a commercial Model?
The commercial model is how this invention will make money for the owners. It does not focus on the asset value or the attraction of grants but just on how this project can be used to make profits for the owner or operators.
There can be many different ways for the project to generate income. Still, for affordability, the inventor should be looking at just one or a few options based on (1) speed to market, (2) the size of the profit opportunities, (3) risks, (4) propensity for the market to recognize and adopt, (5) how this can be defended or protected, and (6) the available resources, approvals, permissions, and access to markets.
When we build a commercial model, we generally start with 244 questions, which will blow out to become over 400 data points on a mindmap. We want to document everything about the commercial model as this is more critical than the product or invention itself.
The Layers
Most innovations will present one suitable commercial model, but some will offer you additional options. When these options are compatible with the optimal option, the commercial model could factor in a layered approach where other models can be introduced (at a later date – funded from the initial cash flow) to increase the market opportunities.
We recently provided a commercial model for an inventor for a $19.95 hardware product that would fix a hole in gyprock walls within 30 seconds. It was an ideal product for painters, renovators, and handymen who needed to repair partitioning or drywall. The device was inserted into the cavity, pressed up against the opposite wall, and allowed the operator to spread putty over the hole for an instant and permanent fix.
This was ideal for the painters and decorators’ industry and the home handyman, so a retail distribution model was selected. A second model was later planned to deploy an ancillary franchise group to deliver a hole-fix service for $165 for the first hole and $65 for every other hole repaired at that visit. The pricing was known by the buyer, and the repairman would turn up, repair the hole, and provide the owner with two sheets of sandpaper for use in 24 hours – before painting.
The Elements
When we build the commercial model, we first start with the problem. If the invention can be classified as a critical solution, then defining that problem with tell you the how and the way of getting this market segment to respond to your offer.
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We then look at who has the problem and how they solve this right now. Do they buy or build a solution? Is it fit for purpose? Can they live with the problem? If they were seeking a solution, where would they go? (this helps us understand who the conventional distribution or supply channel player might be)
We look at the players and the industry configuration. Do players compete using price or other differentiators? What features and benefits do their offers have? Is the market model competitive? Do they tend to buy up or crush the little players?
Finally, we want to quantify the opportunity. Will we be able to sell these individually, by the dozen, or by the thousands? Do buyers need to replace these? Are they consumed, or are they wearing parts needing regular replacement? How often will buyers return to repeat the purchase?
We now should have a good profile of the market, its size and volume, and its sensitivity to price.
Once we have clarity on the demand, we want to know the pricing, costing, and sourcing. What can we make this for, how much would it retail for, and how many hands would it need to pass through to get to the buyers or users?
Most importantly, we need to know if our supply pricing will change on volume or over time and how secure our supply sources for our components, ingredients, or skilled personnel will be. If there will be bottlenecks in future supply or if our prospective competitors can control our supply channels in the future. ?
We then need to understand the level of ownership and protection we can claim on the product and the commercial model we intend to build for this. The sustainability of the commercial model will impact the likelihood of your project (or any buyer, licensee, or distributor) bringing the project to its balance sheet as a non-current asset.
The Exit
If they can’t get out, they won’t get in. Prospective investors need to have a clear value-realization point where they can exchange their investment value for something tangible (preferably cash or publicly listed shares) so that they are able to declare their win.
Within that commercial model, we must identify the optimum value-realization point for the inventor and investment partner. Very few investors will jump into a project if they are not provided with a clear exit. This exit must have a time window, a method, a value, and an identified target buyer.
Remember, the defined exit is rated higher than these novice investors' return on investment (ROI). The most critical benefit this will have for the inventor is that these investors will look to invest in other new inventions you may seek to commercialize after this project has scaled.
Would you like an outline of the mindmap we use to build the commercial models for innovation? Respond to me in the comments below with the word “ModelMap,” and I will send you a free copy.
P.S. If you can see how this information can help you get better traction in your current project, here are four ways we can help you get your plan finalized, have your project adequately funded, and plan your first/next cash-generating transaction:
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